US Residents Holding Canadian Investment Accounts – What You Need to Know.
Recently, several clients have called to talk about gifts or inheritances they have received from a parent or relative in Canada which have been deposited into a non-registered investment account at a Canadian financial institution. Seems pretty straightforward, doesn’t it? The wrinkle in each of these situations is that the client is a resident of the United States. And, they all have the same question – what do I need to know?
Will I be taxed by Uncle Sam?
High on the list of concerns for clients in this situation is whether or not the gift they received will be subject to US tax. To illustrate, let’s assume that the donor, or gift giver, is a resident of Canada. The donor has no US status, i.e. not a US citizen, US resident, or US Green Card holder. The recipient of the gift is a US resident. They may also be a Canadian citizen, but they are living in the US full-time. Prior to receiving the gift, they were not filing income tax returns in Canada because they had no Canadian income to report. They want to be sure that the amount they received is not going to be subject to the US Gift Tax.
In the United States, the US Gift Tax is something that would only be imposed on the donor. If cash is being gifted, the US Gift Tax would apply to US citizens or US resident donors. The US Gift Tax would only impact a Canadian donor, if the gift were real property located within the US. Since we are discussing cash gifts, the US Gift Tax would not apply to a gift given by a Canadian donor to a resident of the United States. However, the IRS still would like to know about the gift received by the US resident. The US resident is required to disclose the gift by completing Form 3520 (Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts) if the amount received was $100,000 USD or greater. Failure to timely file Form 3520 could lead to a penalty of $10,000 USD.
Are there Canadian tax implications?
The next concern is usually about how the Canada Revenue Agency (CRA) will tax the income earned the account. In Canada, parents can give any sum of money to their adult children without facing tax implications. This would not be the case for gifts of appreciated property, but for purposes of this article, we are only discussing gifts of cash. The gifts received are not taxable in Canada by the recipient either, however the income the gift generates is taxable.
The most important thing to do from a Canadian perspective is to inform the investment manager that the account holder is a US resident. Be forthcoming and don’t attempt to use a Canadian address to lead the financial institution to believe that the account holder is a resident of Canada. As a result of additional rules and compliance requirements of the US Securities and Exchange Commission, some Canadian financial institutions will not allow their investment managers to hold non-registered investment accounts of Canadian non-residents. In addition, some Canadian financial institutions can’t work with non-residents of Canada because they are not licensed to do so.
Assuming the financial institution can hold accounts for non-residents of Canada, they will set up the investment account to receive non-resident tax slips with Canadian non-resident taxes withheld. If this is done, and the correct amount of tax is withheld, there is nothing further that the US resident will have to do for Canadian tax purposes, related to the income earned in this account. If this is not done, the US resident will be required to remit the non-resident tax due to CRA. The non-resident withholding tax rate is generally 25%, however, residents of the US can rely on the US/Canada treaty for reduced rates on certain types of investment income. The treaty reduces the tax on capital gains and interest income to 0% and reduces the withholding tax on dividends to 15%.
Anything else to be concerned about?
There is a bit more to mention on the US side of things. US residents are required to report their world-wide income on their US tax returns. Therefore, any income earned in the Canadian investment account needs to be included on the US resident’s US tax return each year. Any non-resident taxes withheld by Canada can be claimed as a credit on the US resident’s US tax return. The US resident should also disclose the details of the Canadian investment account on Form 8938 (Statement of Specified Foreign Financial Assets) and Form 114 (Report of Foreign Bank and Financial Accounts (FBAR) each year. Failure to timely file either of these forms could lead to a penalty of $10,000 USD per form, per year.
Canadian and US federal tax rules can each be daunting and complex on their own. Cross-border scenarios that impact both jurisdictions can lead to even more complexities. If you are a resident of the US, it’s important to keep your tax advisor apprised of changes to your Canadian investment situation in order to determine if there are unanticipated US or Canadian tax implications. This will avoid issues with incorrect income tax filings in either country or costly penalties.
About the Author
Holly Haber CPA, CA, CPA (New York) is a Partner in Fuller Landau’s US Tax team. She can be reached at 416-645-6525 or firstname.lastname@example.org